Why China won't drop its own currency now

The Chinese plans to let the renminbi play a major role in the currency world have not come to fruition. However, the digital renminbi is well ahead of cryptocurrencies from other central banks.

Sometimes a small change has big consequences. This may also apply to the adjustment of the buffer requirements for Chinese banks in the near future. As of today, only 6% of reserves need to be made up of foreign currencies. Initially it was 8%. One consequence of the adjustment is that many banks will exchange dollars and other foreign currencies for their own renminbi. This gives the Chinese currency a boost. The central bank in Beijing is more often opting for this kind of indirect measure to support the renminbi. Direct intervention affects the international status of the currency. President Xi Jinping really wants the renminbi to play a major role in the currency world.

Nice successes
Initially, China seemed to have some nice successes in that regard. In 2016, the renminbi was included in the currency basket of the IMF's Special Drawing Rights. In addition, two years later, oil futures contracts were traded in renminbi instead of dollars for the first time. However, these events mainly have a prestigious charge. Despite the Chinese economy being the second largest in the world after the US, its share of currency trading is only slightly more than 2%. This means that the renminbi should not only override the euro and dollar, but also pound and yen.

Countdown to October 16
In a month, more will become clear about what the future holds for the Chinese economy and currency. The Communist Party's five-yearly congress begins on October 16. That meeting is also an important reason why the central bank is now giving the renminbi a boost. Since the spring, the currency has fallen nearly 10% against the dollar to its lowest level in two years. This glide is fueling economic uncertainty and leading to the outflow of capital. As Xi would like to see a strong economy ahead of an election for his third term as president, the boost for the renminbi comes as no surprise.

Digital currency
While the traditional renminbi is going through a difficult period, the digital version is going through a period of rapid growth. In the first half of the year, the total transaction value of the coin was more than €12 billion. During the Winter Olympics, foreigners were also given the opportunity to pay with the digital renminbi for the first time. China is currently working on a link between the currency and Hong Kong's payment system. That could be a stepping stone to making cross-border payments with the digital renminbi. For example, the country has a huge lead over other central banks, where crypto initiatives are still in their infancy. Who knows, maybe it will be possible to enforce the major role in the currency world, which China actually had in mind with the normal renminbi.

Joost Derks

Joost Derks is a currency specialist at iBanFirst. He has over twenty years of experience in the currency world. This column reflects his personal opinion and is not intended as professional (investment) advice.

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